Libor Case Documents Show Timid Regulators

From left: Brendan Hoffman/Getty Images; Chris Ratcliffe/Bloomberg NewsTimothy Geithner, left, the former New York Fed chairman, and Mervyn A. King, the governor of the Bank of England.

As an interest rate manipulation scandal grips the banking industry, regulators have defended their actions and trumpeted their efforts to overhaul the flawed system during the financial crisis.

But documents released on Friday show that regulators balked at playing a more public role in reform efforts during 2008, and some British officials resisted certain fixes.

Although the Federal Reserve Bank of New York and the Bank of England advocated changes to the rate-setting process, they demanded anonymity. In shunning the spotlight, the regulators deferred to the British Bankers’ Association, a private industry group that oversees the rate-setting process.

“They will obviously have to remove the references to us and Fed,” a Bank of England official said in a June 2008 e-mail, referring to a draft of the trade group’s proposal.

The documents, released by the Bank of England, shed new light on the inconsistent regulatory response to problems with the London interbank offered rate, or Libor. The crucial benchmark affects the cost of trillions of dollars in mortgages and other loans.

Libor Explained

Authorities around the globe are investigating whether more than 10 banks reported false rates to produce profits and deflect concerns about their well-being. In June, Barclays reached a $450 million settlement with regulators over rate-rigging, the first case to stem from the broad investigation. The wrongdoing at Barclays intensified during the financial crisis, when the bank lowballed its rate out of fear that high borrowing costs indicated weak health.

After the Barclays case, lawmakers in London and Washington are questioning why regulators were not more aggressive in thwarting the illegal activities. The House Financial Services Committee is collecting transcripts of calls between regulators and the banks under scrutiny.

The trove of e-mails and documents released on Friday builds on what regulators have disclosed in pieces over the last few weeks.

The New York Fed previously divulged that it learned in April 2008 that Barclays was reporting false rates, a revelation that came months after hearing market chatter about issues with Libor. In testimony before Parliament this week, British authorities said the New York Fed never told them that Barclays was breaking the law.

Instead, Timothy F. Geithner, who served as the head of the New York Fed at the time, proposed changes to the rate-setting process. The Bank of England echoed the recommendations.

But the new documents suggest that the British central bank heard complaints about potential Libor manipulation in 2007, sooner than previously known. Despite the knowledge, the documents show that Bank of England officials failed to stop the illegal actions and dismissed some of Mr. Geithner’s plans to fix the process.

In part, officials at the British central bank were unsure about the extent of the Libor problems. Some issues “might go away with time,” one Bank of England official said in a June 2008 e-mail. The regulator also acknowledged that some market participants saw fundamental flaws with the system. “Since August 2007, this problem has become more severe,” a Bank of England official wrote in an internal memo in May 2008. “There is a longstanding perception that Libor by virtue of the manner in which it is set is open to distortion.”

By the middle of 2008, there was a consensus among British and American authorities that the rate-setting process — whether or not it was deliberately manipulated — needed to be fixed.

In an e-mail to Mervyn A. King, the governor of the Bank of England, Mr. Geithner recommended that British officials “strengthen governance and establish a credible reporting procedure” and “eliminate incentive to misreport,” according to documents released last week. Mr. King replied that the ideas “seem sensible,” and he agreed to pass them on to the British Bankers’ Association.

Both the New York Fed and the Bank of England pushed the trade group to beef up its proposal and ensure that the rate-setting process was accurate. The changes focused on improving Libor’s governance procedures, including audits into how banks submitted rates. Officials also wanted to ensure that the Libor-setting process was more transparent and featured rates from a broader panel of financial institutions.

But within the Bank of England, new documents show, some central bank officials undermined parts of Mr. Geithner’s plan.

The New York Fed recommended, for example, that the British Bankers’ Association could randomly select rates from banks. A Bank of England official said it “does not seem such a good idea,” according to the documents released on Friday. Another idea to poll banks twice daily about their rates, rather than just once in the morning, will “create more difficult issues than it solves,” a different official said.

Instead, some Bank of England officials seemed to support a plan to have “a panel of senior bankers overseeing” the Libor process. In essence, the central bank wanted to let a wider set of firms police themselves.

At the same time, neither the New York Fed nor the Bank of England was willing to help oversee Libor. Authorities say they could not provide the government’s official stamp of approval to a for-profit plan. The regulators also hoped to keep open the possibility that alternatives would emerge to compete with Libor.

A Bank of England official said in a June 2008 e-mail that “we have a clear line” that the central bank’s name “should not be used.” The official proposed a broader phrase instead: “all interested parties.”

That approach upset the trade group, which said the new wording “is just too weak.” The British Bankers’ Association argued that government had an interest in protecting the integrity of Libor.

The lobbying became so fierce that a Bank of England official noted that the trade group “is close to desperate for even a small hook to imply that there will be a dialogue with central banks.”

After months of discussions, the regulators got their way. The final wording of the Libor review, which was published in late 2008, did not refer to specific central bank authorities.

A version of this article appears in print on 07/21/2012, on page B1 of the NewYork edition with the headline: Libor Case Documents Show Timid Regulators.